Wednesday, October 27, 2010

Buffett's Hire Doesn't Scale

Buffett's replacement Todd Combs seems like an earnest, smart stock picker. But a $100B fund doesn't need a stock picker, they need a deal-maker, a business manager, corporate strategist. Surely Buffett only grew into this role, starting as a pure stock picker, but he is truly sui generis, hardly something you can expect from anyone.

From the WSJ, it appears that Combs basically has been a portfolio manager since 2006, focusing on banks. He did relatively well in 2007 and 2008, when he shorted banks, and has underperformed since. Indeed, his 'best' year was in 2008, when he had a 5% loss: as I have argued repeatedly, relative risk is what truly matters, and if this is true the risk premium should not exist, which is consistent with reality. Ultimately, he has a very short resume, and from a Bayesian perspective, a guy who predicted an objectively improbable event--banks up to 2007 were relative outperformers--is probably a lucky crank, not a genius. The banking crisis, like every other crisis, was different. After all, if aliens come back on December 21 2012 as the Mayans 'predicted', the guys who will have seen it all coming are currently in their mom's basement with tinfoil on their heads.

Moving $400MM around is a lot different than moving $100B around. You simply can't short individual names to make much of a difference with $100B. Most things don't scale, which is spider-man does not make any sense: just because a spider can lift 40 times his weight does not imply a 200 pound spider could lift 8000 pounds. My family is organized using Marxist principles ('from each according to his ability...'), yet I don't think for a minute this would work in my neighborhood, let alone nation.

It reminds me of a bond portfolio analyst I knew who found himself running a $2B convertible bond fund. At $2B, he simply could not cherry-pick a large enough set of securities he could as a junior analyst asked to come up with 5 good trades. So, he basically took industry and duration bets when he became a portfolio manager, making his past experience rather irrelevant. His fund blew up during the first market contraction in his asset class, but he pocketed tens of millions of dollars.

I would rather pick someone from the distressed or risk-arb hedge fund pool to manage $100B, because they are thinking about corporate strategy, like selling divisions, bankruptcy, mergers, finding CEO who are great or horrible.


Anonymous said...

Its strikes me that one of Buffet's skills has been being able to pick companies run by skilled people (relative to their industry peers. E.g. the Jordan Marsh furniture people.) So I am puzzled as to why he picked this guy as well.

Anonymous said...

puzzled why he picked...

Maybe he's sufficiently obsequious? It's
not trivial to find a successful hedgefund portfolio manager willing to bend 'n' scrape for Warren and Charlie. Look at the trouble Soros has had for two decades keeping top talent.

Pete S said...

You're just jealous Warren didn't pick you! :)